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Landlords and their counsel craft lease language very carefully so they can be creative with respect to which items can be included in the “Operating Expenses”. It happens all the time. Don’t accept the response that these are industry standard – they aren’t.
“How can we better control operating expense pass-throughs and reduce occupancy costs when negotiating our new lease document?” you ask? The four items below will provide a little color into some of the pitfalls that unrepresented or under-represented tenants often fall into.
Know Your History
A careful review of the historical operating expenses for the property reaching back at least three years will enable a tenant to compare the operating expenses and their annual increases to comparable buildings to determine whether or not they are reasonable. This will also help to provide an estimate of what the charges might be in future years so that there are no surprises.
Cover Your Bases
Particular attention must be given to the definition of the base year in any operating expense provision that requires the tenant to pay its pro-rata share of the building/property’s expenses incurred over a base year. We make certain that the tenant has no obligation to pay for expenses during the base year and that the base year variable expenses are subject to a “gross up” to reflect the full amount of operating expenses that would have been incurred had the building/property been at least 95% occupied.
Exclude and Limit
The Operating Expense provision should be negotiated so that only legitimate charges are included and items such as certain capital improvements and compliance with laws are excluded. Landlords typically provide few, if any, operating expense exclusions or limitations in the initial draft of a lease document, so the operating expense provision often becomes one of the hotly contested provisions of the lease document.
Reserve the Right to Audit
Watch out for any provision that makes the landlord’s determination of operating expense charges final. The tenant should reserve the right to audit the landlord’s expenses and to review the landlord’s calculations on a annual basis.
Knowing what is and what is not standard in the industry is half of the battle. Having a reputable tenant representation specialist who deals with these issues on a day-to-day basis and is continually developing innovative pro-tenant provisions will ensure a careful and thorough review of your lease document.
New regulations affecting Commercial Landlords went into place effective January 1, 2017. It’s important that Tenants understand the Landlords obligation under this Civil Code revision.